What the 'American Taxpayer Relief Act' really means to the real estate industry

On Jan. 1, 2013, Congress finally agreed to the American Taxpayer Relief Act, which includes provisions that extend certain tax breaks, yet increases the tax burden on higher-income individuals.

We are told that any tax act needs to be revenue-neutral; that is, any tax break must be balanced by an increase elsewhere. Although tax rates on high-income taxpayers did increase by 13% in 2013, overall the federal government estimate that the act will cost the government $3.63 trillion dollars over 10 years. Clearly the tax burden has been shifted squarely to individuals with taxable income over $450,000.

However, there is some good news, especially for those individuals with businesses that own property. This good news comes in the form of three tax benefits that survived the act. A brief summary of each is included below. For a full list of all of the extensions provided in the act, you can reference this previous post on the Skoda Minotti blog.

Bonus Depreciation

Bonus Depreciation allows for a direct, 50% immediate writeoff of many capital expenditures with lives of less than 20 years, including vehicles. In construction, for example, this could be everything from a computer to a new back hoe. In real estate, new office lighting and furniture might apply.

Section 179 Immediate Expensing Provision

Section 179 has been extended. Taxpayers can directly write off up to $500,000 of new and used capital equipment purchases, similar to assets benefitting from bonus depreciation.(Total purchases need to be less than $2 million in 2013.)

Qualified Leasehold Improvements

Qualified Leasehold Improvements (QLI) are defined by the Internal Revenue Code as any improvement:

to an interior portion of a building;

which is nonresidential real property (IRC Section 1250);

made pursuant to a lease by the lessee or lessor for space exclusively occupied by the lessee (note that leases between related parties will not qualify); and

made more than three years after the date the building was first placed in service.

According to the act, QLIs may continue to be depreciated over 15 years, rather than 27.5 or 39 years. Moreover, QLIs qualify for bonus depreciation and Sec. 179, up to $250,000.

The restaurant industry needs to pay special attention to this rule. QLIs that are also Qualified Restaurant Property qualify for bonus depreciation.

With the increase in rates on top earners, it is also good news that cost segregation studies performed on buildings are still a valid method to reduce current taxes through accelerated depreciation deductions. You can look forward to a more detailed discussion of “Cost Seg” in a future blog.
`Carried interest' is not a current worry

Finally, many have feared the past four years that “carried interest” legislation would pass; that is, income taxed at ordinary rates rather than capital gains rates for those who finance projects, including real estate.

The fear is that such legislation may disrupt progress on new developments. Thankfully, no changes were made in the act. However, we will update you on developments in future blogs.

Paul Etzler is a principal in Skoda Minotti's Real Estate and Construction Group. He is located at the firm's Mayfield Village office.